Is Inergy Wasting Your Money?

Stock buybacks are generally considered a bullish signal on Wall Street. They return capital to shareholders, while declaring management's belief that its own cheap shares are its best return on investment. As long as profits remain consistent, share repurchases can even increase earnings per share, by dividing the same amount of earnings among a smaller pool of shares outstanding.

But don't forget -- a company isn't obligated to repurchase shares just because it announced its intention to do so. So don't use the announcement as a reason to buy by itself; rather, use it as a launching pad for additional research.

Less is moreAlthough the propane industry offers more seasonal stability than does natural gas, as Inergy (NYSE: NRGY) became more entrenched in the latter's midstream business, the divided loyalties became harder to manage and its debt burden became, well, burdensome. Something had to give, and Inergy decided natural gas would be a bigger growth opportunity, so earlier this year it announced the sale of its retail propane operations to Suburban Propane (NYSE: SPH) for $1.8 billion and will use the proceeds to pay down its debt.

A new $100 million buyback authorization was also recently approved, though with the stock having bounced 50% from its low point this past spring, it's not the bargain stock it once was. Of course, it was the sale of the propane business that launched Inergy's recovery.

Growth by dispositionThe propane industry is in the midst of consolidation, fueled primarily by Inergy itself, which since its founding in 1996 as a propane retailer has made nearly 100 acquisitions. In the process it became the fourth largest retail propane company in the country. Still, the top 10 propane retailers control only 40% of the market, meaning that the vast majority of the opportunity remains in the hands of independent operators. The largest propane shop, AmeriGas Partners (NYSE: APU) , only has a 15% share of the market.

Inergy's sale of its retail business -- it will still keep the wholesale business along with the supply and logistics division -- doubles Suburban's size and makes it No. 3 in the industry behind Ferrellgas Partners (NYSE: FGP) .

For its part, Inergy now becomes more of a holding company in natural gas since it spun out its midstream storage assets into Inergy Midstream last December in a disappointing IPO hampered by an industry reeling from an inventory glut. Inergy owns a 75% interest in Midstream and is entitled to 50% of all of its distributions above the initial quarterly distribution of $0.37 per unit.

A thing of beauty?Inergy released third-quarter results recently, reporting that its losses shrunk to $21.8 million from $35.5 million a year ago, hurt in part by lower retail propane sales due to the warm weather we've experienced. Midstream gross profits, on the other hand, jumped 27% to $57 million, which at least seemingly validates its decision to exit the propane business.

I've likened midstream operators to toll takers. They don't necessarily care what price oil or gas is trading at since the fuel still has to be transported and stored. While a steep recession may reduce demand for refined products, leading to decreased throughput, the drillers still need to service their fields. They're taking a hit now because the glut reduces their profits, but later on, when prices recover, they'll be selling cheap gas at higher levels.

Of course the risk to Inergy now is that it's going head-to-head with larger, better-financed competitors like Energy Transfer Partners (NYSE: ETP) , which is acquiring Sunoco's midstream business that operates in Inergy Midstream's East Coast market.

In the eyes of the beholderAs I noted before, Inergy's shares have recovered most of the losses they experienced earlier this year, but with a new, more focused outlook on natural gas, Wall Street is anticipating 34% compounded annual growth in earnings over the next two years, suggesting they believe its turnaround will succeed.

Earlier this year I rated the midstream operator to underperform the market, even with the planned sale of its assets, noting at the time that its payout ratio has been well in excess of 100%, meaning it was a dividend at risk. I'm still of a mind that a wait-and-see approach is necessary, so I'm not willing to close out my (so far losing) rating just yet. But tell me in the comments box below whether you think Inergy is now a different company that will be able to manage its fortunes better.

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